BAY STREET-Canadian banks seen hitting trough in Q1

Reuters Staff

5 Min Read

* Banks’ EPS seen down 4-6 pct in first quarter

* Lower trading revenue, higher loan losses expected

* Retail, wealth management bright spots

By Andrea Hopkins

TORONTO, Feb 21 (Reuters) - Having weathered the financial crisis, Canada’s big banks are expected to report unimpressive profits in their financial first quarter, suffering from the lagging effects of the recession and consequent loan losses.

While the economic slump may be over, the nation’s top lenders could report their biggest credit losses of the current cycle when they post earnings beginning next week, taking a bit of shine off their still-huge profits.

The bad loans, combined with a decline in trading revenues after a record-high quarter a year earlier, will produce what analysts expect to be an earnings trough for Canadian banks before profit growth resumes this year and into 2011.

Analysts forecast a 4 to 6 percent decline in earnings per share in the first quarter, ended Jan. 31, compared with the year-before quarter as lower trading revenues and more credit losses offset a pickup in banks’ wealth management business and growth in retail loans.

“In the first half of 2010, it’s fair to say so far we’re in a holding pattern, and our holding pattern is pretty benign. The banks are comfortably profitable and generating capital every quarter in the form of retained earnings,” said Moody’s analyst Peter Routledge.

“It’s a transitional year going from recession to an expansion phase.”

Canadian Imperial Bank of Commerce (CM.TO) and National Bank of Canada (NA.TO) kick off the earnings season on Thursday, while Bank of Montreal (BMO.TO), Royal Bank of Canada (RY.TO) and Toronto-Dominion Bank (TD.TO) report in the March 1 week. Bank of Nova Scotia (BNS.TO) caps the earnings season March 9.

While profits remain solid, analysts are divided over whether the banks are a good buy. The group’s shares surged early in 2009 but have since given average returns.

“Canadian banks have outperformed global banks year-to-date, but are still underperforming U.S. regional banks, despite lower regulatory risk, higher asset quality and stronger capital,” UBS analyst Peter Rozenberg said in a research note.

“From here, we do not see any particularly compelling catalysts in the immediate term, and we expect the group to remain largely range bound,” TD Newcrest analysts wrote.

CREDIT, CAPITAL QUESTIONS REMAIN

Provisions for credit losses, the amount of money banks set aside to cover bad loans, plagued the banks through 2009 as consumers and businesses struggled to pay back debts in the recession. While the economy has improved, analysts say loan losses lag a recovery and are just starting to peak.

Barclays Capital analyst John Aiken says businesses went into the recession with such strong balance sheets that it is taking longer for them to succumb to credit problems.

“Ultimately what that means is we don’t think we’ve seen the peak on business provisions, and we’re forecasting that to happen in the second half of 2010,” Aiken said.

A decline in trading revenues will also take a bite out of profits in the first quarter. While a stock market recovery powered capital markets through 2009, trading flows are returning to more normal levels and will look anemic compared with both the year-before quarter and the fourth quarter.

“We do not believe the banks are set to report declines of the magnitude reported in the United States last quarter, although we have taken our estimates for this line down and are now looking for an average 13 percent quarter-over-quarter decline for the Big Six banks,” National Bank analyst Robert Sedran said in a research paper.

But there are bright spots for the banks as well.

Recent Bank of Canada data shows loan growth is still improving, which bodes well for the domestic banking segments that are a traditional stronghold for the Canadian banks.

Canada’s housing market is surging, and mortgage lending is a revenue staple for the banks. Consumer sentiment has also rebounded more quickly in Canada than in the United States, which should boost sales of wealth management products.

Capital levels at the banks, already at impressive levels compared with global peers, are also expected to rise in the quarter amid uncertainty about regulatory requirements.

While that puts Canadian banks in a strong position for acquisitions, growth or dividend increases, no big announcements are expected until later in the year, when new global rules on capital become clearer.

“It’s not that they can’t do something — they could do whatever they want (with these capital levels). But both the market and the regulator are implicitly telling banks more capital is a better thing ... so we shouldn’t expect anything to happen right away,” Aiken said. (Reporting by Andrea Hopkins; editing by Peter Galloway)